The tax levers Sunak could pull to tackle our soaring debt pile

Economists warn the Tories' election promise is under threat as Covid leaves a black hole in the public finances

The Chancellor could target heavy-lifting taxes on income and sales

Even in the midst of a once-in-a-lifetime economic crisis, Rishi Sunak is the most popular man in Government and the most liked Chancellor since Gordon Brown’s heyday. But after a whirlwind five months doling out huge economic aid, Sunak’s honeymoon could soon draw to a close.

On launching the spending review amid eye-watering borrowing figures, the Chancellor hinted this week that tough and unpopular decisions lie ahead. Most economists and Treasury watchers now agree that tax rises are almost an inevitability to help Britain pay off its Covid bill. 

Torsten Bell, chief executive of the Resolution Foundation, says the big economic debate "will be how much and which taxes to increase".

"That is partly for economic reasons which is to do with the scale of the structural deficit that will last even after we have recovered from the crisis and also the politics which makes a repeat of the 2010s difficult."

Sunak is likely to hold off until the recovery is well underway with the danger that premature tax rises would hurt the recovery and worsen the debt dilemma.  But who Sunak squeezes to rein in borrowing is more uncertain.

The Conservative manifesto’s promise not to raise the three heavy-lifting taxes of income tax, national insurance or VAT could be put under immense pressure. Capital gains tax is facing a shake-up after being put under review by Sunak while some argue bolder action could be needed.

What is agreed is the scale of the task ahead of the Chancellor. The Office for Budget Responsibility believes the country's debt pile will become unsustainable without intervention as Covid-19 sends borrowing surging to £372bn this year.  Debt is at around 100pc of GDP, up from close to 80pc last year, and the virus will leave the UK with a higher structural deficit.

However, appetite for spending cuts is limited with public opinion swinging sharply since the financial crisis. In 2009, some 52pc supported spending cuts to reduce the deficit while 30pc wanted to use tax rises, according to YouGov. In 2020, just 27pc want spending cuts and 47pc say deficit-cutting should focus on tax hikes as pressure for higher health funding builds.

Chris Sanger, head of tax policy at EY, warns that the three taxes the prime minister promised to protect ahead of December’s election could be under threat.

"It is only in the major three taxes that you are going to generate significant revenues that are going to result in paying back the large amounts of money that has been spent.

"When you have got two thirds of total revenue in income tax, national insurance and VAT those are clearly the areas that are going to have to do the heaviest lifting."

In 2018/19, some £476bn was generated from incomes taxes and VAT, according to the OBR. Additional revenue can be raised by lifting the rates, holding or lowering thresholds for not paying the taxes or broadening the people that pay the tax.

"We will definitely be increasing income tax even if we are not raising the actual tax rate paid," warns Bell.

The Chancellor has already laid the groundwork for a hike in national insurance for self-employed workers in March as he unveiled a scheme to protect their incomes from the Covid-19 crisis.

Philip Hammond, one of his predecessors at the Treasury, aborted his attempt to bring their tax status in line with employees but Sunak may have better luck after supporting the incomes of millions of freelancers.

Sunak has also hinted that capital gains tax could also face a shake-up after asking the Office of Tax Simplification to review it last week. Experts said it signalled a raid on the tax levied on profit made from the sale of assets, such as property and shares. Currently capital taxes raise a fraction of the three biggest taxes at £31bn.

"That is the right thing to be doing, there are still some very silly reliefs in there," says Bell.  He says the Chancellor should look at changing the headline rate of capital gains tax and adds Sunak could be bolder by overhauling taxes on property, such as stamp duty and council tax.

"If you don't want to do bigger and bolder reforms, the overall amount you can raise is going to be much more constrained."

Tough decisions lie ahead for the Chancellor and a misstep risks wiping the shine off Westminster's golden boy.